Your Money or Your Life: Three Pillars of Financial Independence

This is the twenty-seventh part of The Simple Dollar Book Club reading of Your Money or Your Life. Want to know more?

According to Your Money and Your Life, the three pillars of financial independence are capital (the amount you have invested), cushion (a cash reserve/emergency fund), and cache (your saving habits and frugality). This section focuses on the capital and is perhaps the most controversial part of the entire book.

Dominguez and Robin offer nine basic criteria for investing, and these are quite interesting:

1. Your capital must produce income.
2. Your capital must be absolutely safe.
3. Your capital must be in a totally liquid investment.
4. Your capital must not be diminished at the time of investment by commissions, loads, and fees.
5. Your income must be absolutely safe.
6. Your income must not fluctuate.
7. Your income must be payable to you, in cash, at regular intervals.
8. Your income must not be diminished by charges, management fees, redemption fees, etc.
9. The investment must produce this regular, fixed, known income without any further involvement or expense on your part.

If you read through those pieces, it’s pretty clear that Your Money and Your Life does not recommend most of the common investment tools of the modern era. By these critera, stocks don’t fit the bill in any way, shape, or form.

Obviously, this isn’t going to cut the mustard if you need 10% growth to reach your goals. There is no investment opportunity that returns that 10% with that level of reliability – it just doesn’t exist. Because so many investors shoot for high returns, they ridicule this advice because it doesn’t add up to the numbers they need.

This advice, actually, leads directly to investing in U.S. treasury notes. Those completely fit the bill for this description and return 3%-6%. Another option is a very high yield savings account, again one that returns a consistent percentage. These options are very close to rock solid and pay out very regularly and consistently, much like a paycheck. The good part of such investments is that the returns are going to be the same (3%-6%) whatever the stock market is doing. The bad part is that it’s impossible to get double digit returns in a single year with such investments – you can’t do it.

That’s why this is good investment advice if you plan on living strictly off of your investments, but not so good if you’re trying to grow your investments for wealth. That’s why retirement portfolios are very heavy in stocks when you’re young, but gradually shift to bonds when you move towards retirement, eventually being dominated by bonds. They’re stable and safe and return a steady amount – but they don’t grow like gangbusters, ever.

I don’t believe this is intended for investment advice for people looking to grow their wealth – instead, it’s for people who want to live off of the income of the money they’ve saved up and don’t have a lot of interest in growing it further, but they want long-term stability. For that, I think this advice makes sense.

Tomorrow, we’ll finish up the ninth chapter, “Now That You’ve Got It, What Are You Going To Do With It?” starting with the header “Cushions Make For Smoother Landings.” This section appears on pages 318 through 327 in my paperback version of the book.

Actually, Trent, T-bills are not going to return the same no matter what the stock market is doing. Both the stock market and the t-bills fluctuate because of the Fed’s monetary policy. T-bills are not a good thing to start investing in right now, given the current geopolitical situation.

While I’d like to agree in principle with what they are saying, I don’t think it would work for a very long retirement (e.g. 30 year). I’m am curious how this would hold up against Ben Stein’s book “yes, you can become a successful income investor” since it also assumes you aren’t really trying to grow your income so much as preserve your capitol.

“T-bills are not a good thing to start investing in right now, given the current geopolitical situation.”

What is a good investment now given the current geopolitical situation? (and the current mortgage/foreclosure/debt crisis)

T-bills aren’t an “investment”, they are a safe place to park money for a while. At the moment, I’m parked mostly in cash in a few FDIC insured savings accounts that pay anywhere from 3.9 to 4.5%. Stocks just seem too “bubbly” right now.

I agree that if you are looking to preserve your income these are excellent principles. I’m not sure whether you really can sufficiently inflation-proof yourself over the long term. I’m also unconvinced that it’s realistic for me to generate the large size of pot this would require before I hit standard retirement age, let alone retiring early.

T-bills came to mind when I read the section of the book on the ‘crossover point’. That’s about your only option if you want 100% preservation of capital and a known return to live on. The problem is, it requires a large amount of capital to achieve those returns (unless you’re living expenses are incredibly low).

If you want to argue that T-bills are NOT 100% safe or ‘guaranteed’ these days, then you might as well give up on living in the USA now because we aren’t going to last much longer anyway. :)

If memory serves me correctly, the examples given in this chapter seem to indicate that Treasuries were paying 9% at the time it was written.

The way I see it: If something is paying 4%, you really aren’t making any money. You’ll be giving up about 1% in taxes, and inflation (which they discount as being insignificant) will eat the other 3% (at current rates of inflation). So while you are not actually touching your principal, the real value of your principal is actually decreasing. You’d have to be re-investing all of your gains to maintain your principal at it’s true value. If you’re not re-investing, you will eventually come to a point in time where your income will no longer meet your needs unless you are constantly decreasing your standard of living. If you’re 65, that may be ok.

Now, if you had bought 30 year Treasury bonds when they were paying 9%, you’d be sitting pretty right now.

Maybe I-Bonds/TIPS (treasurydirect.gov) would be a more appropriate investment, in today’s environment, since they pay interest AND appreciate in line with inflation. Anyone have any thoughts on this idea?

I can’t seem to find the link but Vicki Robin has written an update to this part of the book (somewhere on the “Your Money or Your Life” website I believe), where she discusses more appropriate investments for today (when T-bills aren’t paying anywhere near what they used to).

I do think it’s appropriate to look at some of the high yielding, consistent dividend growers for this income today.

I know this is a really late comment, seeing as this was being discussed almost two years ago, but I have just now finished reading the book (the 2008 updated version) and feel compelled to add my own take here.

As telly mentioned, Vicki Robin does make the point that at today’s rates, T-bonds might not be the only choice. Joe Dominiguez, she says, had T-bonds that payed him about 6%, which is not a bad investment for a conservative rate. The advice in the newer version of the book seems to push towards investing enough capital in T-bonds or some other form of stable investment to cover your base-line expenses. Your invested cache, discussed in your next part of this series, should probably go into index funds.

Also I find that the “growth” several commentors seem to be worried about maintaining is against the whole flow of this financial independence plan. As you are working through this program, you are doing soul searching and finding what “enough” for you is. Any growth above that is icing on the cake, really. You can always take a part-time or temporary full-time position to care for whims later, as well.

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